SEC to accelerate exchange testing rules: Walter

Agency eyes ways to reveal analysis of trading data

By

RonaldD. Orol

WASHINGTON (MarketWatch) — The Securities and Exchange Commission will accelerate work on rules requiring that exchanges and other trading venues to conduct tests of their systems to assure they can function in volatile market conditions, agency chairman Elisse Walter said Tuesday.

Walter said the SEC rules, still under discussion at the agency, would require exchanges, other trading systems, clearinghouses and broker-dealers to conduct tests and provide notifications during systems disruptions and have “core technology” that meets standards in the rule.

U.S. Securities and Exchange Commission

Elisse Walter

Discussions about new rules for trading platforms have increased in urgency following the loss by investment firm Knight Capital Group Inc.
KCG, -5.60%
last year of $440 million based on erroneous trades caused by a software malfunction and other market issues including the so-called “flash crash” that rattled the markets on May 6, 2010.

The SEC set up voluntary policy statements after “Black Monday” in October 1987, when stock markets around the world crashed. However, a rule would transform a voluntary system into one that is mandatory, which could be subject to enforcement actions.

“A voluntary standard is no substitute for a mandate or requirement that you must follow and you violate the law if you fail to follow,” Walter told reporters after speaking at an event at American University.

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Nevertheless, it is unclear whether Walter can move forward with the proposal, while the agency has a two-two split between Republicans and Democrats. Mary Jo White has been nominated to be SEC chair but there’s no indication yet whether the Senate will confirm her to take what’s currently Walter’s job.

Walter didn’t provide any indication of whether other commissioners back her plan.

“We will go forward if three of us vote for it,” she said.

Walter told reporters that the venue’s technology would need to live up to “set standards,” in the rule. She declined to comment on what those set standards would be but noted that they won’t necessarily require firms to invest in new technology.

She told reporters proposing rules was on the ”top of the agenda, adding that the testing requirement would seek to answer the question about what happens when an exchange’s system goes down.

“How do you keep that problem from causing a disruption,?” she asked. “Do you have another backup system, do you have another type of system, do you have a backup plan?”

The effort comes as the agency is under pressure to have trading firms set up computerized “kill switches,” perhaps at exchanges, to provide a systematic shut-off if a firm exceeded a prescribed trading limit. New technology and testing requirements could dovetail well with efforts to set up kill switches at exchanges, but that effort is on hold until the agency receives an industry proposal on the subject.

Public release

Walter added that the SEC is also exploring ways to publicly reveal any agency analysis and studies that come out of the commission’s review of an “unprecedented aggregation” of trading data that the agency is collecting through a system of aggregating order information it has set up.

“Analyses like these could be game-changers,” Walter said. “But I see no reason for the SEC to monopolize the information. So I have asked the staff to explore ways to release the information that this data will reveal – to the public.”

Walter said the agency hopes to use information from a system it has set up, the Market Information Data Analytics System, to help it identify modifications and cancellation of orders on national exchanges.

SEC officials have talked about an effort that would require high-frequency traders to keep an order to buy or sell a stock at a certain price for at least one-half of a second before cancelling it if it isn’t met. She said the SEC staff will likely explore the speed of quotes and subsequent cancellations, which she hopes will give the agency a “clearer picture of the potential effect of rules like those” requiring quotes to be kept alive for a minimal period of time. She told reporters that the agency is starting to conduct these studies.

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